Thursday, April 12, 2012

Vancouver vs. Los Angeles Real Estate:

In recent months, Canadian consumers have been admonished repeatedly by Mark Carney, head of the Bank of Canada and Jim Flaherty, Canada's Minister of Finance about the necessity for Canadian consumers to keep their wits about them when borrowing money to purchase a home.  In light of that, I want to revisit Vancouver's real estate market, the hottest market in Canada and the United States.  I'll look at the affordability of a median home measured using the Demographia concept of median multiple which is defined as the median price of a home divided by the median household income in that market.  Keep in mind that Demographia defines markets with a median multiple of more than 5.1 as a "severely unaffordable market"; historically, real estate markets are most affordable when the median multiple is 3.0 or less. 

Let's look back in time at changes to Vancouver's median multiple since 2005 as shown on this graph:


Now let's look at what has happened to the median price of a home in Vancouver since 2005:


The median price of a Vancouver home has risen by 81.9 percent since 2005 in contrast to the median gross household income that has only risen by 12.9 percent, from $56,500 to $63,800.  Those two numbers alone explain the drop in affordability in Vancouver's market.

Now, let's look at what has happened to real estate in another West coast market, Los Angeles, one of the most unaffordable markets in Demographia's universe for three years running prior to the housing bubble collapse in 2007.  The two markets are relatively comparable; both cities are located on the west coast, both have an affluent population and both cities are among the largest real estate markets in their respective countries.  Before I get into the details, here is a quote about the Los Angeles real estate market that I found on the Bloomberg Businessweek website from April 11, 2005:

"For 2005 homebuilders are still optimistic about demand. There's a backlog of unfilled orders for new homes, and Los Angeles-based KB Homes, for example, recently raised its fiscal 2005 profit forecast. Ryan Brown is one real-estate investor who remains upbeat. He and his business partner, Jeffrey Lewis, buy and remodel homes in the Los Angeles area. Their latest project is a three-bedroom, three-bath house in the Hollywood Hills that is listed for $1.49 million. "The whole bubble thing is really overrated," Brown says. Yet even he has reduced his price expectations, figuring appreciation may slow to about 3% or 5%. For the industry as a whole, higher mortgage rates will inevitably cut orders. By 2006 home construction will become a drag on the economy.

More important than housing's direct effect on the economy will be fallout from the slowdown in home-price appreciation. This is where the economy will be most vulnerable. Thanks to the easy availability of refinancings and home-equity loans, consumers have gotten used to tapping into the equity built up in their homes." (my bold)

Annual price appreciation slowing to 3 to 5 percent?  Didn't see the looming storm coming, did you Mr. Brown?

Back to the data.  Here is what has happened to Los Angeles' median multiple since 2005 when Mr. Brown was so confident about the future:


Here is what happened to the price of a median home in Los Angeles over the same time period:


In Los Angeles, since 2007, the price of a median home has fallen by $263,600 or 44.8 percent.  One can quite readily see how easy it would be for mortgage holders to find themselves underwater when nearly 50 percent of the equity in a home vanishes into thin air.  The median multiple has dropped from a severely unaffordable 11.5 to a still severely unaffordable 5.7 but housing is much more affordable in 2011 than it was in 2007.

To summarize, yes, I realize that things are somewhat different in Vancouver, British Columbia, particularly with the influx of hot Asian money.  That said, as in all things, one can never say never.  Just ask residents of Los Angeles   Vancouver's real estate market is so vastly unaffordable by the majority of its residents that eventually, market forces will take over and the city's real estate market will follow that of Los Angeles back to a state of sustainable equilibrium.  When that will occur, no one knows but I can guarantee that in 2005, residents of Los Angeles didn't see it coming either, nor did they suspect the magnitude of the readjustment.  Just ask Ryan Brown.

24 comments:

  1. Anyone who thinks a Great Depression # 2 isn't in the cards in Canada please check out the following link at Statistics Canada which has a summary of the credit market debt in Canada over the last 4 years. Note the 6th line from the bottom - Total funds raised equals total funds supplied. At the end of 2011 the figure is 4.89 trillion $, at the end of 2010 it was 4.65 trillion $, at the end of 2009 it was 4.37 trillion $, at the end of 2008 it was 4.17 trillion $, and at the end of 2007 it was 3.71 trillion $.

    http://www5.statcan.gc.ca/cansim/pick-choisir?lang=eng&p2=33&id=3780050

    Central Banks all of the world have two choces "Inflate or die" to borrow an old phrase from Richard Russell

    "Richard Russell likes to say that policy makers are faced with a choice to either inflate the currency or watch the economy die a horrible deflationary death"

    http://www.gold-eagle.com/gold_digest_08/taylor060509.html

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  2. Thanks for the StatCan link. Excellent information.

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  3. The following link is for the same information but on a quarter over quarter basis over the last 5 quarters. Good web site you have. I found out about it in the comments section of the globeandmail.com web site. A suggestion for a future story if you have the time: A chart which gives the increase in the total debt in Canada versus the increase of the real gdp.

    I believe Karl Denninger had it right when he said (in the past) "You cannot expand credit at a rate faster than GDP forever without suffering a financial panic and collapse".

    http://www5.statcan.gc.ca/cansim/pick-choisir?lang=eng&p2=33&id=3780084

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  4. Thanks Anon. I posted an article on growth of Canadian debt from a 30 year perspective from StatsCan data on April 17th. It is certainly frightening to see how much debt has grown.

    I'll see what I can do about your request.

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  5. You can't really compare Vancouver to Los Angeles. LA is over 1,200 square kilometres. Vancouver is 115.

    The thing about Vancouver is that it's all "bought up" and that there's no new construction of single family homes. Even duplexes and townhouses aren't being built anymore, it's just condos.

    The biggest misunderstanding of the Vancouver real estate market is that it's somehow being manipulated by speculators or foreigners. What's really happening is that the city is simply out of land, and unless the city starts reclaiming itself from the ocean (which is unlikely, considering that ocean levels are set to rise, not fall), real estate in Vancouver is only going to get more expensive, no matter what the Bank of Canada does. That you can bet on.

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  6. Steven, your argument might have some weight if there were a clear disparity between the percentage rises of houses and condos. It would have even more weight if you could demonstrate rental prices rising in tandem with this putative imbalance of supply and demand.

    Unfortunately, you can't. The supply/demand argument in Vancouver is false. It is a classic bubble. The main driving factor is indeed the mainland Chinese, who are desperate to buy western housing in a city favourable to their culture, and are also inexperienced with asset bubbles.

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  7. Steven

    I hope that you're right....but I shudder to think of the ramifications for Canada's banking and housing industries if you're not.

    Canada's housing market in some centres outside of Vancouver are experiencing the same phenomenon. Look at prices in the GTA - it's huge and can expand in all directions except onto Lake Ontario and yet prices are out of the realm of reality.

    People in LA thought in couldn't happen back in 2006. Wrong!

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  8. The spin machine in Vancouver is running overtime trying to tell residents that 1) a housing crash is not coming 2) housing prices are in no way related to asian investment 3) we have to keep building condos at a frantic rate because Vancouver is out of land 5)high rise condos represent everything good and green in the world, and are not in any way driven by people wanting to make buckets of money.

    This pitch seems to be getting frenetic lately, something seems to be going on.

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  9. All it takes is for real estate "investors" to lose a little faith in their second, third properties and there will be a rush to sell properties. As the wave noticed, more will join and it becomes a tsunami that puts a lot of people underwater. Those people start bailing on mortgage payments and banks tighten up, making the situation even worse.

    It's a domino effect, with such dramatic, unsustainable rises in a major family expense item, everyone knows the dominos are lined up. The only question is what will start the process.

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  10. Some interesting figures. To understand how inflated Vancouver is (and LA was), I've compared those figures to Toronto. Here the median Toronto house price of $570k (bit.ly/IShrZt) and the median family income of $78k (bit.ly/IUtjc5 ) you get 7.3. To hit Vancouver or LA numbers that average house price would have to go up to $860k. And I thought today's market here in TO was insane. Of course, the average "stand-alone" house price here is already $830k (first link).

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  11. I think this is a great little blog and have had great comments on it. I am living in Vancouver as i recently moved back in 2010. I was close to buying a house last and would have had to be outside the actual city of Vancouver s i really wanted a quite street with a back yard. It would be anywhere from $750-$900k. A lot of people who bought back a few years ago have seen there house price rise. So they upgade to a larger house and keep the same debt and buy fancy cars. My biggest worry is plain household deby which is why i amd holding my cash, investing it in other ways (Note "investing" in Real Esatate these days is not a good idea but buying is something people could consider). I do pretty good for myself witha salary north of 125k plus some bonuses, but i still can't bring myself to buy right now as its way to risky.

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  12. When the crash hits, there are some things we can do in Vancouver to cussion the blow... http://www.porttackoption.com/2012/04/a-route-to-soft-landing-when-the-current-real-estate-bubble-bursts-in-vancouver/

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  15. I have heard the Steven M excuse before, most recently when I lived in LA from 1999 to 2006. La was immune to the 'Florida problem '... Hemmed in by mountains with no water or land left, prices will only go up up up!

    Btw La is about 10 times as population of van, so of course 10 times the size..

    Count on a hard, and hard crash van.

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  16. I've always liked Culver myself. That neighborhood has changed so much... for the better!

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  18. These statistics are so true. At one side people in Vancouver have had problems in buying house as the price hike was too much in comparison to their income and on the other hand Los Angeles has seen great depreciation in the prices resulting into the loss of equity. But Los Angeles has been the choice of the people to buy a house and one can find homes for sale in los angeles easily.

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